Harry Quilter-Pinner and Dean Hochlaf
July 2019
The Centre for Economic Justice
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IPPR | There is an alternative Ending austerity in the UK 1
CONTENTS
Summary
..........................................................................................................................3
4. Taxation in the 2020s
.............................................................................................23
5.
Conclusions..............................................................................................................
30 Next steps: The politics of taxation
...................................................................
31 The ‘ investment state’: The first parliament and beyond
............................34
References
....................................................................................................................37
2 IPPR | There is an alternative Ending austerity in the UK
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ABOUT THE AUTHORS Harry Quilter-Pinner is a senior research fellow
at IPPR.
Dean Hochlaf is a researcher at IPPR.
ACKNOWLEDGEMENTS The authors would like to thank Paul Elliott for
his kind support of this project. Thanks should go to Abi Hynes,
Tom Kibasi, Richard Maclean, Clare McNeil, Shreya Nanda and Carys
Roberts for their feedback and help in drafting and producing the
report. Finally, thanks also to Tony Dolphin, Michael Jacobs and
Alfie Stirling for help with the modelling.
IPPR | There is an alternative Ending austerity in the UK 3
SUMMARY
ENDING THE ‘CONSOLIDATION STATE’ The global financial crisis of
2007/08 had a significant impact on the UK’s public finances. Since
2010/11, successive UK governments have chosen to impose a
programme of austerity in an attempt to reduce the budget deficit.
This period of austerity is set to be the longest pause in real
terms spending growth on record. As a share of GDP, spending has
fallen from 47 to 40 per cent – a faster decline than comparable
European countries (and from a lower base). This is what the
sociologist, Wolfgang Streeck, calls the ‘consolidation
state’.
There is a growing consensus that austerity has failed: •
economically – by taking demand out of the economy, right at the
moment
when firms and individuals were also tightening their belts as a
result of the 2007/08 economic crash, cuts in government spending
have stifled economic growth. The New Economics Foundation finds
the UK’s economy is about £100 billion smaller today than it would
have been without the cuts
• fiscally – while the government did meet its objective of
delivering a surplus on its current spending in 2018, this was two
years later than planned (Giles 2018), and it looks likely to miss
its objective to deliver an overall budget surplus by the middle of
next parliament (Whittaker 2017). Likewise, debt as a percentage of
GDP has risen every year since the onset of austerity (ibid)
• socially – many types of crimes are increasing (ONS 2018), life
expectancy has stopped rising and inequalities in health are
growing again (Marmot 2019). Over a million people a year are now
using foodbanks (Trussell Trust 2019), rough sleeping has more than
doubled (Economist 2018), and poverty has started to rise once
again: one in three children and around one in five pensioners have
now dropped below the poverty line (DWP 2019).
As a result, there is now a growing consensus that it is time to
‘end austerity’. The challenge going forward is defining what this
means in practice. Some commentators have argued that it simply
means stopping any future cuts (Emmerson et al 2019). Others have
gone further in arguing for a reversal of some of the cuts (such as
on welfare) (Whittaker 2018). In truth, these are both limited
definitions of ending austerity. Instead, as a society, we must use
this moment to create a more fundamental shift away from the
‘consolidation state’ towards an ‘ investment state’.
CREATING AN ‘INVESTMENT STATE’ The starting point for such a shift
must be a clear understanding of what we want the state to achieve.
Building on IPPR’s Commission on Economic Justice, we argue that we
want a society that simultaneously delivers both prosperity and
justice for everyone (CEJ 2018). To do this, the state must have a
bigger role – and must invest more – in four killer ‘social
deficits’: care, focused on the young and the old; skills,
addressing low pay and productivity; health, in particular
inequalities and rising mental ill-health; and security, to end
poverty, growing levels of debt and economic insecurity.
Closing these ‘social deficits’ will require significant investment
in our social security system and public services. The
international evidence supports this argument. When we rank
comparable countries – who on average spend £1,600
4 IPPR | There is an alternative Ending austerity in the UK4
per head more on health, education and welfare – we find that, in
terms of their social outcomes, the UK lags behind on most metrics.
Notably, we have lower levels of life satisfaction, poorer health
outcomes, higher levels of poverty and inequality, and average
educational outcomes. There is also a growing evidence base that
suggests higher levels of social investment can act as a catalyst
rather than a drag on economic growth.
We therefore call on the UK government to commit to matching
European levels of social spending. This could be achieved through
incrementally increasing the size of the state by 0.7 percentage
points per year – which would see spending rise from around 43 per
cent of GDP today (when we factor in private pension spending) to
around 48 per cent of GDP by 2030. As a result we would be able to
spend an extra £280 per head on education, £450 per head on health
and £930 per person on social protection than under the status quo.
This demonstrates that delivering higher social spending is not
only desirable but also achievable. If other European countries can
do it, so can we.
But if we want to move towards an ‘ investment state’ we will have
to pay more tax. We estimate that as a society, we need to raise an
additional £66 billion per year by the end of this parliament,
rising to £119 billion by the point of convergence in 2025 and £124
billion by the end of the next parliament (except in the case of an
economic downturn) in order to meet the average level of spending
of our European neighbours. This may sound like a lot of money but
it is far from impossible. We know this because other countries
achieve it: on average, comparable European countries currently pay
41.8 per cent of GDP in taxes compared to 33.3 per cent in the UK
in 2018. This assumes that we balance current spending on an
ongoing basis and maintain the proportion of investment spending
funded through borrowing.
We argue that to achieve this, policy makers will have to make two
key shifts in policy. • People on middle incomes will have to feel
that those on higher incomes
are paying their fair share of taxation before they are willing to
pay more themselves. We therefore call for increases in
corporation, wealth and income tax on high earners – together
raising as much as £57 billion in revenues per year – in the short
run. This is crucial because to achieve the scale of revenue
increases needed in the long term, the middle classes will
ultimately have to pay more tax: an ‘ investment state’ cannot be
funded by taxes on the wealthy alone.
• Everybody – including those on middle and higher incomes – will
need to benefit from high quality public services in order to
create a coalition in favour of the ‘ investment state’. This will
require a shift towards more universalist public services and
welfare provision. We therefore call for the additional funding
raised in the short term to be invested in universal childcare,
social care and mental health provision – as well as reversing cuts
to universal credit, adult education and public health. These
priorities should be funded before more regressive universalist
policies such as free tuition fees are considered.
IPPR | There is an alternative Ending austerity in the UK 5
1. INTRODUCTION
A BRIEF HISTORY OF AUSTERITY IN THE UK The global financial crisis
of 2007/08 had a significant impact on the UK’s public finances,
reducing tax receipts and increasing government expenditure on
social security and bank bailouts. Since 2010/11, successive UK
governments have therefore chosen to reduce the country’s budget
deficit – the size of government spending over and above its
revenues – by imposing a programme of austerity: cutting government
expenditure and, to a lesser extent, increasing taxes.
FIGURE 1.1 The UK has experienced the longest pause in real terms
spending growth on record Real terms government spending, total and
per head
Source: Bank of England (2019)
Overall this has not resulted in a dramatic decrease in public
spending in absolute terms, which totalled just under £800 billion
in 2010/11 and is forecast to be just over this figure in 2020/21
(see figure 1.1). However, this is still significant: post-2010
austerity is set to be the longest pause in real terms spending
growth on record. Moreover, with the UK’s population continuing to
grow, spending per head has fallen, and is set to be 3.9 per cent
lower in real terms by 2021/22 than it was in 2010/11. Likewise, as
a share of GDP, spending has fallen from 47 per cent to 40 per
cent.
The impact of this spending constraint has not been shared equally
among government priorities and groups of people. Notably,
successive governments have chosen to protect spending on the NHS,
pensions and international development.
£0
£2,000
£4,000
£6,000
£8,000
£10,000
£12,000
£14,000
£16,000
£0
£100bn
£200bn
£300bn
£400bn
£500bn
£600bn
£700bn
£800bn
Spending Spending per head
6 IPPR | There is an alternative Ending austerity in the UK
This has meant disproportionate cuts in public spending across
other areas of government, notably, policing and prisons, local
government services such as social care, public health and young
people’s services, as well as most areas of education (see figure
1.2), with an average cut of 17 per cent across all departments
between 2010/11 and 2019/20.
FIGURE 1.2 Protection of some areas of spending have resulted in
deeper cuts in other departments Cumulative real terms change in
departmental spending, 2013–19
Source: HM Treasury (2018)
The evidence is increasingly clear that these cuts in expenditure
have failed to deliver on the government’s original fiscal
objectives. Notably, while it did meet its objective of delivering
a surplus on its current spending (excluding capital spending) in
2018, this was two years later than planned (Giles 2018), and it
looks likely to miss its objective to deliver an overall budget
surplus by the middle of next parliament (already much later than
originally planned) (Whittaker 2017). Likewise, debt as a
percentage of GDP has risen every year since the onset of austerity
(ibid).
This is unsurprising given the impact that austerity has had on
economic growth. By taking demand out of the economy, right at the
moment when firms and individuals were also tightening their belts
as a result of the 2007/08 economic crash, cuts in government
spending have stifled economic growth. Recent estimates from the
New Economics Foundation – using numbers produced by the Office for
Budget Responsibility – confirm this (Stirling 2019). They find
that the cumulative effect of austerity has been to shrink the
economy by £100 billion today compared to what it would have been
without the cuts: that is worth around £3,600 per family in 2019/20
alone (ibid).
-80 -60 -40 -20 0 20 40 60 80
MHCLG - Local Government
Defence
International Trade
IPPR | There is an alternative Ending austerity in the UK 7
FIGURE 1.3 Austerity has reduced economic growth since 2010 and
every subsequent year GDP lost as a result of discretionary fiscal
spending
Source: Stirling (2019)
As lower growth has led to lower business profits and wages this,
in turn, has resulted in less tax revenue, and has increased
non-discretionary spending, such as unemployment benefits and tax
credits (Krugman 2015). This has made reducing the fiscal deficit –
the difference between what government spends and what revenue it
raises – more difficult, even as discretionary spending has been
cut. This lack of robust growth has also been one of the main
drivers of the increases in debt as a percentage of GDP experienced
over the last decade.
However, the most severe failings of austerity have not been fiscal
or economic, but social. Many forms of crime are up (ONS 2018).
Life expectancy has stopped rising and inequalities in health are
growing again (Marmot 2019). Over a million people a year are now
using foodbanks (Trussell Trust 2019), homelessness has more than
doubled (Economist 2018), and poverty has started to rise once
again: one-in-three children and around one in five pensioners have
now dropped below the poverty line (DWP 2019). In the deluge of
statistics, it is easy to lose sight of the fact that these are
real people, families and communities, who rely on government
support to get by.
Inevitably, these failures have also had significant
political ramifications, with the general public appearing to
have finally lost patience with austerity. The latest British
Social Attitudes survey finds that support for higher taxes and
spending has risen to 48 per cent, higher than at any time since
2004 (BSAS 2018). Eight in 10 people want more spending on the NHS,
and seven in 10 on schools (ibid). Meanwhile, there is a growing
academic literature linking the onset and impact of austerity with
rising populism, including the Brexit vote in 2016 (Fetzer
2018).
Real GDPCounterfactual GDP, based on isolated effects of
discretionary fiscal policy
Isolated effect of discretionary fiscal policy on the level of
GDP
125
120
115
110
105
100
95
/19
Isolated effects of discretionary fiscal policy have suppressed the
level of GDP by 4.7% in 2018/19, equal to almost 100bn in this
year’s prices
8 IPPR | There is an alternative Ending austerity in the UK
As a result, there is now a growing consensus that it is time to
‘end austerity’. In the words of Theresa May, ‘the British people
need to know that the end is in sight’. However, while the
government has announced a new funding deal for the NHS, most other
public services still face further cuts. For example, the Institute
for Fiscal Studies (IFS) estimates that even if the government
locks in a moderate overall spending increase over the next five
years, because of commitments to protect certain areas of spending,
the remaining ‘unprotected’ areas are facing an average annual cut
of 0.4 per cent per year (Emmerson et al 2019).
The challenge going forward is defining what we mean by the ‘end of
austerity’. Some commentators have argued that it simply means
stopping any future cuts. For example, the IFS has argued that
maintaining spending per head on ‘unprotected’ areas would cost
around £5 billion by 2023–24, while maintaining these areas as a
percentage of GDP would require £11 billion per year over the same
time frame (ibid). Others have gone further, arguing for a reversal
in some of the cuts (such as welfare) (Whittaker 2017). But in
truth, these are both fairly limited definitions of ending
austerity.
Instead, as a society, we must use this moment to have a more
fundamental debate about the size and role of the state. And this
must begin with an answer to a challenging but vitally important
question: What do people want government, and in particular the
welfare state, to achieve in the future? After all, no one wants
more spending just for the sake of it; it is only desirable because
it helps us deliver the investment, services and entitlements we
need to achieve the kind of society we aspire to
create.
Answering these questions will help us to understand what we want
to spend on as a society. Historically, the NHS, schools and
pensions have been the priority. As a result, they have been
largely protected from austerity. But increasingly, people are also
demanding high quality childcare, better access to social care,
more police on the streets, greater investment in adult education,
more affordable housing, better public transport and changes in
university funding. Moving forward, we will have to make tough
choices about which of these areas we want to prioritise and how
much of our collective wealth we are willing to invest in
them.
The most challenging questions in this debate will relate to how
the welfare state should be funded in the future. The 2020s will
see the number of people over 65 increase by 33 per cent and the
number of over 85s will nearly double (Lawrence 2016). In this
context, tax increases look inevitable, even just to maintain our
existing services and entitlements. But which taxes should we
increase, and by how much? How do we fairly share the cost of the
welfare state between young and old, wealthy and poor, as well as
individuals and corporations? What is our approach to the debt and
the deficit? And, crucially, how do we win support for these
changes among the general public?
This paper begins to answer some of these questions, with IPPR’s
new Fairer Welfare Programme looking to build on this work in the
future. We argue that for too long we have been told that there is
no alternative (‘TINA’)1: that we cannot afford to spend more on
the welfare state and that we must ‘tighten our belts’. But the
truth is, with the mounting evidence that austerity has been bad
for growth, bad for the deficit and bad for families and
communities across the UK, we can hardly afford not to spend more.
Instead, in the words of Wolfgang Streeck, we must make the
transition from a ‘consolidation state’ to an ‘ investment state’
(Streeck 2015).
1 ‘There is no alternative’ (shortened to TINA) was a slogan
used by Margaret Thatcher. The phrase was used to signify
Thatcher’s claim that the market economy – including smaller
government, lower taxes and free markets – is the only system
that works.
IPPR | There is an alternative Ending austerity in the UK 9
2. THE ‘INVESTMENT STATE’
DELIVERING PROSPERITY AND JUSTICE As the sociologist Wolfgang
Streeck has argued, there have been three phases to
welfare-capitalism across Europe and other Western nations in the
last century. The first of these, known as the ‘tax state’, began
after the second world war and saw the development of progressive
taxation systems, Keynesian economic policy and the creation of the
welfare state. The second, known as the ‘debt state’, began in the
1980s following the period of stagflation, and saw falling tax
rates, reform and the privatisation of public services, and
increasing levels of public and private debt in order to maintain
living standards.
This phase ended as a result of the 2007/08 financial crisis and
the ‘Great Recession’ which followed. It was replaced by the
‘consolidation state’. As we set out in the introduction, this has
seen governments cut back entitlements and public service spending,
despite experiencing both growing and ageing populations, in a bid
to reduce the debt and fiscal deficits. The UK has experienced one
of the more severe fiscal contractions in the developed
world.
In this chapter we make the case for a fourth shift away from the
‘consolidation state’ towards an ‘ investment state’ which would
see governments raise tax rates but also make the taxation system
more progressive (ensure the wealthy contribute their fair share)
to fund more generous social spending. This builds on the
recommendations of IPPR’s ground breaking Commission on Economic
Justice (CEJ) (CEJ, 2018) which argued that we needed a shift to
investment led growth in our economy.
The starting point for such a shift must be a clear understanding
of what we want the state to achieve. Building on the work of the
CEJ, we argue that we want a society that delivers both prosperity
and justice for everyone. A shift away from a ‘consolidation state’
to an ‘ investment state’ is a pre-requisite for delivering on
these economic and social aspirations. In particular, we argue that
we need sufficient investment in the welfare state in order to help
us deliver four main objectives. These are as follows. 1. Ensuring
that everyone achieves a basic minimum standard of living,
meaning
enough income to live, and access to the basic goods and services –
such as housing, an education and healthcare – needed for a good
life.
2. Narrowing inequalities in wealth, income and power, including
redistribution across different geographies and groups of people
(such as genders, races and classes).
3. Unlocking the potential of all people and the wider economy
by maximising everyone’s human capital and reducing barriers to
people achieving their aims and ambitions.
4. Creating a stable and cohesive society by building shared
spaces, institutions, identities and interests that enable
relationships, trust and solidarity to develop.
There is now overwhelming evidence that we are falling short of
these aspirations and that austerity has taken us further away
from, rather than closer to, achieving them. Turning this around is
no simple task. It will not happen overnight, but it is far from
impossible. Over the last century humans have radically reduced
poverty across the globe, cured some of the deadliest diseases and
doubled life
10 IPPR | There is an alternative Ending austerity in the UK
expectancy, and invented the internet and other digital
technologies that were previously unimaginable. Bigger and better
government – through the funding of research and development
(Mazzucato 2011), the creation of the welfare state (Deaton 2001),
and by the setting of rules and regulations that shape and manage
markets – has played a key role in all of these achievements.
As we look ahead to the challenges of the rest of the
21st century, we must once again fully marshal the power of
government, alongside businesses and civil society, to deliver a
more prosperous and just country. But to achieve this – and the
four overarching goals of welfare policy set out above – we argue
that the government must address four killer ‘social deficits’.
These are the ‘care deficit’, the ‘skills deficit’, the ‘health
deficit’ and the ‘security deficit’. These deficits (set out in
more detail below) speak to the failings of our existing welfare
state as well as the priorities for reform going forward. While
politicians have been focused on the fiscal deficit, it is
these social deficits that have been keeping most ordinary people
up at night.
THE UK’S FOUR SOCIAL DEFICITS 1. The care deficit. Caring
responsibilities in the UK, for both young and
old, often fall to family or friends. Huge cuts in social care
funding and underinvestment in childcare create inequalities in who
receives care and the quality of that care, which reduces dignity
and limits potential. There are 1.4 million people aged over 65 who
face unmet social care needs, over double the number in 2010 (Age
UK 2018). There are many more who rely on informal care – which is
valued at over £132 billion annually (Buckner and Yeandle 2015) and
has grown rapidly since the crisis – with the overwhelming majority
of this care provided by women.
2. The skills deficit. A combination of technological change
and globalisation is fundamentally re-shaping the labour market,
with polarisation of the workforce between high skilled, high pay
and low skilled, low pay jobs. The latter are increasingly
susceptible to automation, putting up to 44 per cent of jobs in the
UK economy at risk (Lawrence et al 2017). Avoiding rising
unemployment and loss of skills will require a significant
investment in education, training and ongoing development to help
people gain employment and progress in the labour market (Dromey
and McNeil 2017).
3. The health deficit. Life expectancy has consistently risen over
the last century, but since 2010 this trend has stalled in the UK
(Marmot 2019). Health inequalities are also growing, with the
poorest in society living 8.4 years less than the richest.
Meanwhile, on average, each of us will live nearly one fifth of our
life in ill health (PHE 2017). A particular challenge is mental ill
health which effects one in four of us every year and costs the
economy nearly £100 billion per annum (OECD 2018a). We need more
investment in prevention, public health, the social determinants of
health and the NHS to address these challenges.
4. The security deficit. Our social security system has become
increasingly patchy with poverty for both children and pensioners
rising again – poverty now encompasses 30 per cent of children (up
from 27 per cent in 2010) and 16 per cent of pensioners (up from 14
per cent in 2010) (DWP 2019). Shockingly, a majority of people
in poverty live with an adult in
paid work. Work for many is increasingly insecure, with
one in nine people in insecure work such as agency work, zero-hour
contracts and low paid self-employment (TUC 2018). As a result,
household debt has increased rapidly and more than a million people
are now forced to rely on foodbanks to survive (Trussell Trust
2019). This is both morally wrong and economically costly and will
require additional investment into our social security
system.
IPPR | There is an alternative Ending austerity in the UK 11
Closing these social deficits will require significant additional
investment to be made available to our social security system and
public services, alongside bold reform to the workings of these
institutions. We argue that, in terms of Gøsta Esping-Andersen’s
‘worlds of welfare capitalism’ framework, it will require the UK to
move from a ‘liberal regime’ – that is, a modest and means-tested
system aimed at providing a basic minimum – towards a ‘social
democratic’ one. Usually associated with Northern Europe, this
system provides more generous and more universal support aimed at
delivering a more equal society (Esping-Anderson 1990).
The international evidence supports this argument. When we rank
comparable countries in terms of their social outcomes2 we
find that the UK lags behind on most metrics (see table 2.1).
Notably, though we do outperform our neighbours in terms of
employment outcomes, we have lower levels of life satisfaction,
poorer health outcomes, higher levels of poverty and inequality,
and average educational outcomes.
TABLE 2.1 Social outcomes rankings between comparator European
countries
Social outcome Ranking (out of 11)
Life satisfaction 8
PISA score 6
Educational attainment 6
Life expectancy 9
Mental health prevalence (low income) 9
Poverty rate 9
Child poverty 7
Inequality (Gini) 11
Insecure employment 4
Source: OECD (2019a)
These outcomes are determined by a myriad of different factors
which are difficult to prove. However, there is evidence that
suggests that they are linked to the level of investment in public
services and social security. Notably, we can observe a strong
negative correlation between government spending as a share of GDP
and both poverty and inequality rates across countries (see figure
2.1 and 2.2). This is likely to be because countries with higher
levels of government spending redistribute that spending more
between rich and poor (see figure 2.3). Similarly, there is a (less
clear) positive correlation between government spending and
educational
2 We looked at three criteria: GDP per capital between $30,000 and
$60,000; reasonable population size (more than 5 million people);
and similar cultural and political histories (European, excluding
ex-Soviet Union dominated countries).
12 IPPR | There is an alternative Ending austerity in the UK
outcomes (figure 2.4), and a negative link between spending and
some health outcomes, particularly mental health (figure 2.5).
There is no clear link between government spending or social
security spending (as a percentage of GDP) and employment outcomes
(despite economic theory suggesting that there should be) (figure
2.6).
FIGURES 2.1 AND 2.2 Government spending (% of GDP) against poverty
rates (%, left) and inequality (Gini, after tax and benefits,
right)
Source: OECD (2019a)
FIGURES 2.3 AND 2.4 Government spending (% of GDP) against level of
redistribution (difference between market and post redistribution
Gini, left) and education spending (% of GDP against PISA outcomes,
right)
Source: OECD (2019a)
0.27
0.29
0.31
0.33
0.35
0.37
UK
UK
0.12
0.14
0.16
0.18
0.2
0.22
0.24
0.26
485
490
495
500
505
510
515
520
525
UK
UK
IPPR | There is an alternative Ending austerity in the UK 13
FIGURES 2.5 AND 2.6 Government spending (% of GDP) and mental
health prevalence (% of low income people, left) (2014 data) and
long term unemployment rates (% of total labour force, right)
Source: OECD (2019a)
This all implies that more government spending could help deliver a
more socially just society. However, the case for higher levels of
social investment is not just about social justice – it is about
economic prosperity too. While historically, economic theory has
claimed that more government spending leads to lower economic
growth by reducing the incentive for people to work and crowding
out private sector investment (Bergh and Henrekson 2011), there is
growing evidence which suggests that this is not a universal rule.
Notably, it is increasingly clear that funding care, skills, health
and welfare – what is often jointly called ‘social infrastructure’
– is an investment like any other, with an economic return which
can drive improvements in growth.
In the long run there is a strong supply-side effect of this
investment. Spending on education (Barro 2001), adult skills (Aznar
et al 2015) and health (Cylus et al 2018) is an investment in human
capital which drives higher productivity and therefore higher
economic growth. There is also evidence that investments in care –
in particular childcare – can improve outcomes for children (also
an improvement in human capital) and increase female labour force
participation: both of which should drive increases in economic
growth (Brewer et al 2016; Ben-Galim 2011). Moreover, a recent IMF
study suggests that investments in social security may be
beneficial for growth (given growing evidence of the negative link
between inequality and growth) (Ostry et al 2014).
If we combine these effects, there is evidence to suggest that a 1
percentage point increase in ‘social infrastructure’ (public
spending on health and social care and education as a ratio to GDP)
increases productivity (output per hour) in the rest of the economy
by 3.3 per cent in the medium term (Onaran et al 2019). Of course,
this does not imply that all social investment will always be
productive: it must be well targeted and invested in efficient
delivery systems, and it is likely to deliver diminishing returns.
But it does suggest that social investment can be a crucial element
of an effective growth and productivity strategy, particularly in
circumstances where there is strong evidence of weak social and
human capital linked to underinvestment, as there is in the
UK.
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14 IPPR | There is an alternative Ending austerity in the UK
There is also growing evidence that higher social investment can
drive economic growth in the short run when the economy has
insufficient demand (defined as an ‘output gap’ in economic
literature – meaning a gap between actual and potential output).
Notably, the Women’s Budget Group demonstrates that investment in
social infrastructure, just like spending on physical
infrastructure, is associated with a positive multiplier and job
creation (particularly for women) (De Henau et al 2016). Given that
most reputable sources argue that the UK is still facing a negative
output gap (HM Treasury 2018), this implies that more spending on
social investment could drive increases in growth now and in the
future.
IPPR | There is an alternative Ending austerity in the UK 15
3. PUBLIC SPENDING IN THE 2020s
As we established in the previous chapter, higher levels of social
investment are not just desirable, but is also achievable. However,
determining the ideal level of government spending to address the
social deficits set out earlier is a tricky task, requiring a fully
costed manifesto for each of the four areas of policy. Over
the coming months, this is what IPPR’s new Fairer Welfare Programme
will look to do. But in the meantime, we can get a sense of the
scale of spending that might be necessary by looking at other
developed economies.
Using three main criteria – GDP per capital between $30,000 and
$60,000, reasonable population size (more than 5 million people),
and similar cultural and political histories (European, excluding
ex-Soviet Union dominated countries) – we can identify a group of
European countries broadly comparable to the UK. This
comprises Austria, Belgium, Denmark, Finland, France, Germany,
Italy, Netherlands, Spain and Sweden. We can then isolate their
spending patterns, in terms of both quantity and allocation, and
compare them to the UK. The results, as set out below, are
illuminating.
Government spending has faced a turbulent few decades. The advent
of the millennium kick started a steady and sustained increase in
spending in the UK. As a proportion of GDP, government spending
rose from 35.4 per cent in 2000 to 41.2 per cent by the end of 2005
(see figure 3.1). The financial crisis and severe recession which
followed several years later caused spending as a proportion of GDP
to rise further and faster. In part, this was a consequence of a
shrinking economy, but also as a result of an increase in spending
in the form of bank bailouts and automatic stabilisers, such as
unemployment benefits.
This increase in spending – as well as the fall in economic growth
– contributed to a marked rise of the national debt as a proportion
of GDP, which became the focal issue of the 2010 general election.
A programme of austerity to reduce the fiscal deficit and national
debt followed, and as a result, spending as a proportion of GDP has
consistently declined since 2010, falling from around 48 per cent
in 2010 to around 41 per cent as of 2017. This has also led to
declines in spending per head which is £200 lower in 2017 than it
was back in 2010.
Before the Great Recession, the UK was converging on levels of
government spending with comparable European countries. This was
partly the result of reductions in their spending – average
spending across Europe fell sharply from 55 per cent in 1995 to
47.8 per cent in 2000 – but also increases in ours. However, since
the recession, both Europe and the UK have followed a broadly
similar pattern. The core difference is that in the UK, spending
has declined at a much faster rate. Between 2010 and 2017, the size
of the state shrank by 5.2 per cent on average in our comparator
countries, compared to a 14.1 per cent reduction in the UK.
16 IPPR | There is an alternative Ending austerity in the UK
FIGURES 3.1 AND 3.2 Government spending has been reduced more
quickly in the UK than in comparable countries since 2010
Government spending as % of GDP, UK vs comparator European
countries (left) and government spending per head in £ (2019
prices), UK vs comparator European countries (right)
Source: OECD (2019c)
The allocation of these funds has remained relatively constant over
the years. The largest component of spending by far is social
protection, with spending on pensions, unemployment and other
welfare benefits making up 37.2 per cent of total spend. Following
this is health spending, which has risen from 13 per cent of total
spending in 1995 to 18.2 per cent in 2017. This is in part driven
by greater demand for health services, increasing costs associated
with more advanced treatments and popular support. General public
services and education follow, each making up 11 per cent of total
spending as of 2017.
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IPPR | There is an alternative Ending austerity in the UK 17
FIGURES 3.3 AND 3.4 Breakdown of government spending by function in
the UK (top) vs comparator European countries (bottom), 2017
Source: OECD (2019c)
Our analysis shows that the UK has also fallen behind its
comparators in terms of social spending which can be defined as
social protection, health and education. In real terms3 the UK
spent approximately £8,710 per head on these three areas in 2017.
This is more than Spain and comparable to Italy but significantly
behind the other countries in this group. Indeed, there is a
considerable jump of over £2,000 additional spend in the next
lowest country, Germany, with eight countries spending in excess of
£10,000 per head. If the UK were to match the average level of
social spending across this group of comparator countries as a
whole it would increase spending by £2,100 per head today.
3 Estimated valued based on 2019 prices.
Social protection
37.24%
1.17% 2.34% 1.65%
18 IPPR | There is an alternative Ending austerity in the UK
FIGURE 3.5 Social spending in the UK is lower than comparable
countries in Europe Social spending per head in real terms in the
UK and comparator countries, 2017 (2019 prices)
Source: OECD (2019c)
PRIVATE SOCIAL SPENDING In most advanced countries, the state is
the largest contributor to the provision of welfare and public
services. However, there are many examples of private contributions
being used to supplement public funding. This is particularly the
case for pensions, healthcare and higher education: • Pensions: In
the UK, 76 per cent of UK employees are members of a
workplace pension scheme as of 2018. This has a substantial impact
on overall social protection funding. The latest data shows that
the UK is one of the few countries in our sample where private
contributions represent a substantial portion of total pension
spending. Private contributions for pensions are equal to over 3
per cent of GDP in the UK. Bar the Netherlands and Denmark, this is
much higher than other European nations where pension spend is
exclusively dominated by the government (see figure 3.6).
• Healthcare: There is less variety when it comes to the provision
of healthcare. Most countries have elements of private coverage,
but they are relatively small and in proportion to government
expenditure on health. However, it should be noted that some
countries require compulsory contributions which are not recognised
as government expenditure. Unlike the provision of pensions, where
the UK has a far larger private market than comparable European
nations, health provision and spending is predominantly the
responsibility of government (see figure 3.7).
• Higher education: Tertiary education, which includes university
education and apprenticeships, is funded predominantly through
private contributions in the UK. This reflects the student loan
system which has been adopted in the UK, where individuals are
expected to borrow to finance higher education. Almost 75 per cent
of tertiary education spending in the UK comes from private
sources, in stark contrast to comparable European nations, where
the average private contribution to tertiary education is only 17
per cent in total.
Sp ai
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10,000 12,000 14,000 16,000
IPPR | There is an alternative Ending austerity in the UK 19
FIGURES 3.6 AND 3.7 The UK has higher levels of private spending on
pensions but lower on health relative to comparator countries % of
GDP on public vs private spending on pensions (left) and healthcare
(right) in the UK and comparator European countries
Source: OECD (2019c)
FIGURE 3.8 The UK has higher levels of private tertiary education
spend than comparator countries % of GDP on public vs private
spending on higher education in the UK and comparator European
countries
Source: OECD (2019c)
This raises questions about the aspirations for future UK spending.
Given the existence of a developed private pension and higher
education system in the UK, matching our comparator countries in
terms of publicly funded social spending would mean spending more
on social spending in total (both public and private) as a
percentage of GDP than other countries. This implies that we should
either
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20 IPPR | There is an alternative Ending austerity in the UK
reduce publicly funded social spending to compensate for this, or
reform our pensions and higher education system to match our
European neighbours.
Based on existing government policy and the demographic pressures
expected in the 2020s (which will particularly drive growth in
pensions and healthcare), the Office of Budget Responsibility
forecasts that spending in the UK will decrease further, to a low
of around 37.9 per cent of GDP in 2021, before rising from 2021
onwards . Similar forecasts by the IMF for our comparator European
countries suggest that spending will initially fall before rising
very slowly, meaning that by 2030, we do not expect to see any
significant change in the size of the state. This will see the gap
between the level of spending in the UK and our European comparator
countries narrow very slightly over the next decade.
FIGURE 3.9 The gap between UK spending and comparator countries is
set to narrow slightly over the coming years Government spending
forecasts under the status quo in the UK and European comparator
countries as a percentage of GDP
Source: OECD (2019c), OBR (2018) and authors’ calculations
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IPPR | There is an alternative Ending austerity in the UK 21
FIGURE 3.10 The spending gap in the UK and comparator countries is
set to remain fairly consistent Publicly funded social spending per
head forecasts in the UK and comparator European countries
Source: OECD (2019c) and authors’ analysis
However, as set out in the previous chapter, this status quo
scenario is neither economically nor socially desirable. It doesn’t
have to be like this: there is an alternative. Our modelling shows
that incremental increases of just 0.7 percentage points a year in
the size of the state would close the gap by 2030. This would still
see growth in government spending below the level seen under New
Labour (2001–05). It would see spending hit 42.7 per cent of GDP by
the end of the parliament in 2022, 46.3 per cent by 2027, and match
the comparator levels of spending (48.4 per cent of GDP) by 2030
(see figure 3.11 below).
FIGURE 3.11 The UK could match European levels of government
spending in a decade Post-austerity government spending as a
percentage of GDP forecasts in the UK and comparator European
countries
Source: OECD (2019c) and authors’ calculations
European comparator average UK
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22 IPPR | There is an alternative Ending austerity in the UK
As mentioned previously, the UK has a significant private pensions
market which provides social support in lieu of government payment,
which we might want to factor into our spending forecasts and
target. Data between 2001 and 2013 suggests private pension
contributions as a percentage of GDP rose at an average rate of 1.2
per cent. Assuming this growth continues and including private
pension contributions, increasing government spending in line with
GDP growth could see the UK and EU converge with European levels of
spending as early as 2025.
INVESTING IT WISELY The modelling above showing potential future
spending increases set out the earliest possible date spending
could be achieved based on realistic assumptions (such as
incremental increases of just 0.7 percentage points a year).
However, policy makers may want to ramp up additional investment
more slowly to ensure that it is efficient, effective and equitable
– so that additional spending really does deliver value for money
for the tax payer. This idea is supported by evidence that some of
the investment made during the New Labour years failed to deliver a
fundamental transformation in outcomes and may have resulted in
declines in public sector productivity (Toynbee and Walker 2011).
Furthermore, there is likely to be numerous areas of public
delivery where bottlenecks in delivery capacity – particularly
regarding workforce numbers (in the health, education and caring
sectors for example) – will constrain the pace at which new
investments can be made.
FIGURE 3.12 If private pensions are factored in this could be
achieved even sooner Post-austerity government spending as a
percentage of GDP forecasts in the UK and comparator European
countries, factoring in private pension spending
Source: OECD (2019c) and authors’ analysis
Achieving this increase in government spending would result in a
significant boost for overall spending and social investment. If we
factor in private spending on pensions as described above, we
estimate that education spending would rise from £1,470 per head in
2018 to £1,755 by 2025 at the earliest possible point of
convergence. Similarly, health spending would rise from £2,380 per
head to £2,830 during the same period, while social protection
spending would increase from £4,860 to £5,790 per head.
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IPPR | There is an alternative Ending austerity in the UK 23
4. TAXATION IN THE 2020s
In the words of Benjamin Franklin, ‘nothing can be said to
be certain, except death and taxes’. But actually, governments
have – and consistently use – a range of methods for raising the
revenue they need to fund public expenditure. Taxation is just one
of four options available, the others being debt-financing, earned
income, either through the return on or sale of assets, and
money-financing. This chapter will focus on the first two policy
levers – taxation and debt-financing – as these tend to make up the
majority of government revenue (see figure 4.1). (An overview of
the other funding channels is included in the information box
below.)
FIGURES 4.1 AND 4.2 Taxation has been and remains the main source
of funding for the UK government Tax as share of GDP (left) and as
a share of total government spending over time (right) in the UK
and comparator European countries
Source: OECD (2019c)
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24 IPPR | There is an alternative Ending austerity in the UK
FIGURE 4.3 AND 4.4 While the fiscal deficit has shrunk, debt has
continued to rise over the last decade Fiscal deficit (left) and
public debt (right) as a share of GDP in the UK and comparator
countries
Source: OECD (2019c)
EARNED INCOME Government can fund spending through earned income.
In recent decades the most obvious form of earned income has been
privatisation, defined as the transfer of ownership of a company
from the public to the private sector. From the 1980s until the
mid-1990s, privatisation was an important component of economic
policy (with some continuation of this in more recent times).
Notable examples of privatisation include British Telecom (BT) and
British Gas in the 1980s, British Rail in the 1990s and in more
recent years, Royal Mail.
The main purpose of privatisation is not usually considered to be
revenue raising. Instead, proponents have argued that privatisation
– through the profit motive – makes organisations and services more
efficient (though there is some controversy over whether this is
really the case). However, privatisations do increase government
revenues: between 1970 and 2015 major privatisations raised up to
£11.8 billion per year (at their peak in 1991) (Hough et al 2014).
However, this is dwarfed by the sale of land – with over 10 per
cent of the UK’s total land changing hands from state to private
since 1978 – worth up to £400 billion in total (Christophers
2018).
Putting aside the merits and disadvantages of privatisation in
terms of ownership and efficiency, it is clear that it is not a
sustainable way of resourcing the state. Once the revenue from an
asset is spent it cannot be spent again, and the state’s stock of
assets is limited and declining. However, this does not mean that
earned income cannot contribute to how we fund government spending
in the future. Some have proposed that revenues from nationalised
industries or, more radically, the creation of a sovereign wealth
fund – potentially capitalised through (desirable) asset sales,
borrowing or taxation – could provide a sustainable source of
revenue generation for the state (Roberts et al 2018).
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IPPR | There is an alternative Ending austerity in the UK 25
MONEY-FINANCE There has been a growing debate amongst economists
about whether money-financing –government spending funded not by
issuing debt (government bonds), but simply by increasing the
monetary base (‘printing money’) – is desirable. This can be
achieved in a number of ways, each with varying degrees of risk and
complexity (Turner 2015). One of the most talked about is
helicopter money (sometimes referred to as ‘people’s quantitative
easing’). In the modern context, this would see the central bank
directly credit the government’s account by creating a non interest
bearing and non-redeemable asset ‘due from government’ on the other
side of the balance sheet (ibid).
However, there are risks involved in this kind of money-finance:
notably it could drive up inflation if people lose faith in the
government’s management of the currency and therefore the value of
the currency, with opponents citing previous examples such as the
Weimar Republic and Zimbabwe. However, a number of notable
mainstream economists, including Adair Turner and Martin Wolf, have
argued that money-finance can help stimulate aggregate demand in
the economy, particularly in the context of the zero-lower bound on
interest rates, and should therefore be part of our policy armoury.
They argue that the risks could be managed if the use of
money-finance were constrained by a robust institutional
framework.
The balance between these two revenue sources has changed over
time, with taxation declining as a proportion of total spending and
debt rising since 2002 (though the real change occurs in 2007/08
and is associated with the financial crisis). This trend is more
pronounced in the UK but is consistent across most of the countries
we looked at. In the UK, this shift is a consequence of increased
public spending – with pressures created by rising public
expectations, changing demographics, new technologies and
scientific advancements (particularly in health) – and tax revenues
stagnating, having remained between 30 and 35 per cent of GDP for
most of the last five decades.
While the size of the deficit has been reduced significantly since
2010 – and debt as a percentage of GDP is forecast to decline over
the next two years – the fiscal challenge is due to re-emerge in
the 2020s. Projections by the OBR show that without significant
policy change, the primary budget deficit4 will grow significantly
over the coming decades which will also see debt as a percentage of
GDP increasing again over the long run. This is primarily driven by
an aging population, which increases both the cost of welfare and
public services, but also by a declining share of working age
people who contribute more in terms of tax. The OBR warns starkly
that this is "an unsustainable fiscal position over the long term"
(OBR 2018).
This all suggests that, regardless of any additional public
spending as proposed in the previous chapter, we need a public
debate about how we fund public spending. This was one of the key
messages set out in IPPR’s Commission on Economic Justice (CEJ
2018). The aim of this chapter is to start this debate by setting
out the scale of the tax increases needed – and the shift in the
make-up of the tax base desired – to address the fiscal challenges
set out above, move towards an ‘ investment state’ and fund the
additional public spending that we argue is desirable in the coming
decade.
This debate must begin by determining our approach to debt and the
deficit: we need a set of fiscal rules that help us determine how
much of the funding gap described earlier should be funded by
taxation vis-à-vis debt. IPPR’s recent
4 The difference between non-interest revenues and spending.
26 IPPR | There is an alternative Ending austerity in the UK
Commission on Economic Justice report argued that our fiscal
framework should include four main components (Stirling 2018a). • A
current spending rule: Under normal circumstances, averaged out
over the
economic cycle or a period of five years, governments should not
borrow to pay for current spending (the so-called ‘golden
rule’).
• An investment rule: Investment spending should be treated
separately to current spending in deficit estimates, with borrowing
levels determined by an assessment of how far the outlay will
contribute to growth.5
• A total debt rule: A rolling five-year target for government debt
as a proportion of GDP which is based on a longer-term target to
maintain adequate ‘fiscal space.’6
• A fiscal and monetary policy co-ordination rule: The previous
three rules should be temporarily suspended when monetary policy is
constrained by the effective lower bound of interest rates.
What these rules imply for taxation and debt depend in part on how
we define ‘investment’. Traditionally, investment has been
synonymous with capital expenditure, which is primarily physical
infrastructure (buildings, roads and so on). But as set out
earlier, in a modern economy it is not only physical infrastructure
which increases productive capacity and therefore supports future
growth. This is also true of intangible investments, in particular
the early years and education element of ‘social infrastructure’.
In future, some proportion of this social infrastructure could
therefore be classified as a form of investment, allowing
government to fund it from borrowing instead of taxation (though
this is not required in order to make the shift we are discussing
in this paper).
HOW MUCH IS TOO MUCH DEBT? A number of influential studies have
suggested that, beyond a certain level, government debt is
unsustainable. Notably, renowned economists Kenneth Rogoff and
Carmen Reinhert proposed that when debt exceeds 90 per cent of GDP
it acts as a drag on growth and could result in a sovereign debt
crisis (Reinhart and Rogoff 2009). However, there is a growing
consensus that this theory is not correct (at least not
universally). In fact, there is no correct level of debt: debt
sustainability is determined by a range of factors including its
maturity, who it is owed to (and especially what currency it is
owed in) and which country is borrowing it (in particular the
country’s historical record on borrowing and default) (Reinhart et
al 2003).
More fundamentally, debt sustainability is determined by the
difference between the interest rate paid on that debt and tax
revenue growth. As long as the latter is higher than the former,
debt is sustainable. This further highlights the point that what
borrowing is spent on is also important for debt sustainability: it
is desirable if it is invested productively and the rate of return
is positive (higher than the interest rate). Economists are now
therefore recognising that higher levels of debt may not be as
concerning as we once thought, with even the IMF arguing that the
UK has more ‘fiscal space’ to borrow (Ostry et al 2010).
For the purposes of this paper, we will adopt a more traditional
definition of investment. This would put the burden of revenue
raising onto the taxpayer, and we would estimate a revenue gap (the
gap between our desired spending level
5 The extent to which the return on investment will exceed interest
rate repayments. 6 Fiscal space is the difference between the debt
limit historically experienced by a country and its
current debt.
IPPR | There is an alternative Ending austerity in the UK 27
and status quo tax and other revenues) of £66 billion per year by
the end of this parliament, £119 billion by 2025 – at which point
we will meet the average level of spending of our comparator
countries – and £124 billion by the end of the next parliament.
Under this scenario, the UK would maintain a balance in terms of
day-to-day spending and maintain the current proportion of
investment spending funded through borrowing which would mean net
debt could rise to 107 per cent of GDP, providing growth
projections remain unchanged.7
We also estimate two further scenarios, where all expected
investment spending is funded via the deficit and where we add
primary and secondary education into investment spend (e.g.
shifting some social investment into borrowing). In the former
scenario, the tax gap by the end of this parliament would be £20
billion, by 2025 it would be £70 billion next parliament in 2027
would be £72 billion, with net debt rising to 117 per cent of GDP
by this time. In the latter scenario, the UK would consistently run
surpluses on day to day spending, but would run consistently high
deficits and this would lead to net debt reaching 154 per cent of
GDP by 2027.
FIGURE 4.5 Revenue gap on day-to-day spending 2019–30 under two
definitions of investment
Source: Authors’ estimates
Our calculations demonstrate that, regardless of our definition of
investment, as a country we will need to raise more tax in the
future. The numbers set out above may sound unachievable, but
comparisons with our European neighbours are once again
informative. As we set out earlier (figure 4.1), comparable
European countries raise significantly higher levels of taxation
than the UK does, at 41.8 per cent of GDP compared with 33.3 per
cent in the UK in 2018. Moving towards a higher tax, higher spend
state is therefore achievable – and, as set out earlier, without an
obvious trade off with economic growth.
Looking at other countries can also be instructive in terms of
where this revenue is raised from. On average, across comparator
countries, we find that the UK has significantly lower levels of
taxation on labour (employee taxes). In fact, the UK is rare among
comparable countries – and is the only country in the G7 – to have
seen
7 These projections assume that investment spending grows at the
same pace as our overall spending settlement (eg 0.7 per
centpercentage points per year). This is a smaller increase in
investment than that recommended by the CEJ – an extra £15bn by
2022 (equivalent to an extra 0.8 per cent of GDP). Further
increases in spending would need to be achieved on top of the
settlement set out in this paper.
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Tax gap with partial investment funded via deficit, £, 2018 prices
Tax gap with full investment funder via deficit, £, 2018
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28 IPPR | There is an alternative Ending austerity in the UK
taxes on individuals’ earned income fall as a proportion of all tax
receipts over the past 50 years. This is partly a result of lower
top rates of taxation (see figure 4.6), but is also due to more
generous exemptions in the UK (notably personal allowance which has
grown from £6,475 in 2009 to £12,500 today). Other countries also
raise significantly higher rates of labour taxation through higher
social contributions (not just on higher earners but also middle
and lower earners as well).
Likewise, taxation on businesses in the UK are also lower than
those on many of our European neighbours. This can be seen in terms
of corporation tax, with the rate in the UK falling from 30 per
cent in 2007 to 19 per cent today (with a further 2 percentage
point decrease still planned), making it the lowest rate of all the
countries in this study. Unsurprisingly, UK corporation tax
receipts have been consistently lower than the OECD average since
the early 2000s. However, employer contributions to social
insurance are also lower, at 3.9 per cent of GDP in the UK compared
to 6.8 per cent in comparable European countries. The UK also
raises marginally less from consumption taxes but marginally more
from wealth taxation; however consumption tax constitutes a larger
proportion of UK tax revenue.
FIGURES 4.6 AND 4.7 The UK raises a smaller share of taxation from
labour and business than comparable European countries Share of
taxation revenue by source in the UK (top) and comparator European
countries (bottom) in 2017
Source: OECD (2019c)
19.52
31.53
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IPPR | There is an alternative Ending austerity in the UK 29
These findings corroborate trends identified in the wider
literature which suggest that countries with larger welfare states,
notably the Nordic states, tend to have less progressive taxation
systems (Steinmo 1993). Notably, numerous studies note that people
on middle and lower incomes in these countries tend to make
relatively higher contributions through labour taxes (especially
social contributions) and consumption taxes on a wider set of goods
(extending VAT on staple foods, for example, which are often exempt
in the UK). In terms of a government’s revenue raising objectives
this makes a lot of sense: the wider the tax base (the more taxes
are spread across a larger population or on a wider array of goods
and assets), the more stable and sustainable revenues are likely to
be.
However, replicating such a system, as it currently stands, in the
UK would be a mistake. This is because taxation is also a key tool
for achieving distributional objectives. A less progressive
taxation system – and one that in particular asks middle class
people to contribute more – can be justified in Nordic countries,
where existing levels of inequality are low and where the revenue
raised is used to invest in more universal services and social
security systems which benefit not just those on low incomes, but
those on middle incomes as well. In the UK, where neither of these
two conditions hold – inequality is higher and more services and
benefits are means tested – it would be both regressive and
unpopular (at least in the short to medium term).
Instead, building on the work of the Commission for Economic
Justice, we argue that significant additional revenue could and
should be raised by ensuring that those with a greater ability to
pay – people on higher incomes or with higher levels of wealth, and
larger corporations – contribute their fair share (CEJ 2018). This
recognises the scale of inequality in this country: there is a
six-fold difference between the incomes of the top 20 per cent of
households and those of the bottom 20 per cent, with inequalities
in wealth even larger (CEJ 2018). Furthermore, such a system is
also likely to win support for more social investment and a bigger
state: polling consistently shows that people feel that those on
higher incomes do not pay enough.
30 IPPR | There is an alternative Ending austerity in the UK
5. CONCLUSIONS
ENDING AUSTERITY: A HOW-TO GUIDE There is growing consensus that,
after a decade of cuts to public services and social security, it
is time to ‘end austerity’ in the UK. But with the country facing
significant economic, social and political challenges this cannot
mean tinkering at the edges. Instead, policy makers must use this
juncture as an opportunity to re-evaluate the role of the state in
the decades to come. This means tackling some big questions. What
do we want the welfare state to achieve? How much do we want to
spend on it? Where should we get the funding to deliver this? What
reform is needed to win support for this?
This paper has attempted to begin addressing some of these
questions. We have demonstrated that the state has a pivotal role
to play in ensuring everyone has a basic standard of living, that
power, income and wealth are fairly distributed, that everyone has
the opportunity to fulfil their potential, and that we have a
cohesive society. In particular, we have argued that the state has
a crucial role to play in addressing deficits in care, skills,
health and security. This shift towards a greater investment in
‘social infrastructure’ will require a larger state than we have
traditionally had in the UK.
But, contrary to received wisdom, this does not have to mean lower
economic growth. While on average, countries with higher levels of
government spending tend to have lower economic growth, there is no
reason this has to be the case. The real question is not the amount
of government spending but its effectiveness. If additional
spending is invested into ‘social infrastructure’ such as
education, health or childcare – which drive improvements in human
capital – this can lead to higher economic growth in both the short
and long term.
Meanwhile, the evidence suggesting that higher spending will lead
to better social outcomes is hard to dismiss. The UK currently has
lower levels of life satisfaction, poorer health outcomes, higher
levels of poverty and inequality, and average educational outcomes
when measured against comparable European countries, all of which
spend more on ‘social infrastructure’ than we do. The data is
particularly clear that, as we would expect, more spending on
social security and public services lead to lower levels of both
poverty and inequality.
Many will argue that higher spending is not possible. But our
European neighbours show that this is simply not true. Committing
to the creation of an ‘ investment state’ is not a move away from
the international norm but a move towards it. Such a commitment
would see total government spending rise by around 5 percentage
points by 2025 and would allow (after factoring in spending
requirements for existing commitments) for £46 billion per year of
additional spending by the end of the parliament, £105 billion by
2025 - when we would deliver on the objective of matching our
European competitors - and £125 billion by 2027.
Some of this could be funded by debt. Contrary to popular opinion,
additional debt is not unsustainable as long as interest rates are
low, rates of return on investment are high and debt is denominated
in domestic currency. Even the IMF argues that the UK still has the
capacity to increase debt (should we wish to) without any negative
consequences. However, creating an investment state
IPPR | There is an alternative Ending austerity in the UK 31
does not depend on higher debt: much of this extra spending will
need be raised through additional taxation. We estimate the total
tax gap will be £66 billion by the end of the parliament, £119
billion by 2025 and £124 billion by 2027.
These are significant sums of money. But as we have demonstrated,
other European countries manage to raise similar amounts (or more)
every year to fund better and more complete social safety nets. The
challenge is therefore more likely to be political rather than
technical. Can we really win support for significant increases in
taxation? There are promising signs. The political winds are
changing: the general public appear to have finally lost patience
with austerity. The latest British Social Attitudes survey finds
that support for higher taxes and spending has risen to 48 per
cent, higher than at any time since 2004 (BSAS 2018).
However, to deliver the scale of shift in public taxation and
spending over the coming decade, policy makers will need to grow
and maintain support for a higher tax, higher spend economy. We
argue that two key shifts in policy will be needed over the
remainder of this parliament and beyond in order to achieve this.
These are as follows. • People on middle incomes will have to feel
that those on higher incomes are
paying their fair share of taxation before they are willing to pay
more taxes themselves, which will be necessary in order to deliver
an ‘ investment state’.
• Everybody – including those on middle and higher incomes – will
need to benefit from high quality public services and the social
security system in order to create a coalition in favour of the ‘
investment state’.
We investigate both of these conditions in the rest of this
chapter.
NEXT STEPS: THE POLITICS OF TAXATION The scale of the additional
spending required to deliver an ‘ investment state’ is such that it
can only be raised in the longer term by widespread tax rises
across all forms of taxation and the majority of the population –
including those on middle as well as higher incomes. This is one of
the key lessons from the Nordic countries, which have consistently
managed to maintain higher levels of spending on public services
and social security with robust economic growth (Steinmo
1993).
There are two main reasons for this. Firstly, although we are
likely to be some way off the peak of the laffer curve,8 beyond a
certain level, higher taxes on businesses and the wealthy will lead
to a reduction in revenue and economic growth. And, secondly, it is
because, even if we could continually raise the tax rate paid by
higher income earners, there is simply not enough of them to
sustain the welfare state: the UK is already more reliant on the
wealthy for its tax revenues than other countries (Miller et al
2017, Corlett 2018a). The most sustainable welfare states rely on
the broadest possible tax base to sustain revenues.
That said, given the relatively low levels of taxation in the UK –
including on businesses and high earners – as well as higher levels
of both income and wealth inequality, there is significant scope to
increase taxes on the wealthy before we reach this point. Indeed,
doing so is not only an economic but a political necessity:
creating a coalition in favour of an ‘ investment state’ and
support for more widespread increases in tax depends on it.
8 The laffer curve suggests that as taxes on corporations or higher
earners increases, its relationship to revenues follows a U-shape
(Mankiw et al 2009, Martin 2012) – that is, it declines at higher
rates. This, they argue, is because, in the context of high levels
of international capital and labour mobility, businesses and high
earning individuals will ‘shop around’ for the most competitive tax
rate. Furthermore, they argue that higher rates disincentivise
work, innovation and investment which lead to a reduction in growth
and therefore tax revenues.
32 IPPR | There is an alternative Ending austerity in the UK
This is because, while the narrative that people resent paying
taxes is inaccurate – most people feel proud to contribute to
society and recognise it as a crucial part of citizenship
(Williamson 2017) – tax morale (people’s willingness to pay their
taxes) depends on their perception of the fairness of the taxation
system. People must feel a sense of fellowship with, and trust
between, other taxpayers and users of public services and the wider
social security system if they are to support higher taxes.
In the UK, this sense of fellowship and trust has undoubtedly been
eroded in recent decades (Edelman 2018). On the one hand this has
been driven by perceptions – fuelled by the political rhetoric
surrounding ‘workers and shirkers’ – that those on low incomes are
not paying their fair share. However, the evidence does not support
these claims: in the UK those in the bottom decile pay a higher
share of their income in tax than those on the top decile.
Meanwhile the evidence is clear that on average, immigrants, who
are usually of working age, are net contributors to the
state.
FIGURE 5.1 As a proportion of income, the poorest 20 per cent of
households in the UK have the highest overall burden of tax Total
average tax liability by equivalised household income quintile as a
proportion of gross income, 2015/16
Source: Stirling (2018b)
On the other hand, this loss of trust has also been driven by
perceptions that the wealthy have been finding ever more elaborate
ways to avoid paying tax. There is more evidence to substantiate
this claim. Despite contributing a significant proportion of total
tax revenue, the wealthy (Roberts and Lawrence 2018) and big
multinational businesses (Blakeley 2018) pay significantly lower
shares of their income or profit in taxation than those on lower
incomes or smaller businesses. Public awareness of these
inequalities in the tax system have been growing as a result of
numerous high profile tax scandals such as those involving Amazon,
Starbucks and Google.
Given this, it is unsurprising that support in the UK – as in other
OECD countries – for higher taxes on the wealthy and companies has
been growing (OECD 2018b). It seems clear that to win support for
the ‘ investment state’ – and higher taxes on a wider range of
actors within society – the wealthy must pay their fair share
first.
0%
5%
10%
15%
20%
25%
30%
35%
40%
Total indirect taxes Council tax less council tax benefit
Income tax and employee NICs
IPPR | There is an alternative Ending austerity in the UK 33
We therefore reiterate a number of the main recommendations of the
Commission for Economic Justice,9 including the following. • Making
taxation on labour more progressive. This can be achieved by
aligning
the tax rate schedule for all sources of income (national insurance
and income tax) to make it simpler and more progressive, replacing
tax bands with a ‘formula-based’ tax schedule, and increasing the
top rate of tax back to 50 per cent. Modelling these changes for
the CEJ, we found that this could raise an additional £16 billion
per year, while ensuring that the bottom 40 per cent of taxpayers
are still better off.
• Treating income from wealth the same as income. Income from
dividends and capital gains should be incorporated into the income
tax schedule. All exemptions, allowances, and reliefs that
currently exist for both taxes should be reversed. Estimating the
fiscal effect of this is challenging but it is likely to be
substantial. Removing the exemption of capital gains tax on death
alone would raise an estimated £1.2 billion, and simply restoring
the pre-2016 capital gains tax rates would raise a further £800
million in 2020/21 (Corlett 2018b, 2017).
• Abolishing inheritance tax and introducing a gift tax. A
donee-based gift tax would be levied on the gifts received by an
individual above a lifetime allowance of £125,000. When this
lifetime limit is reached, any income from gifts would be taxed
annually at the same rate as income derived from labour under the
income tax schedule. Resolution Foundation have modelled this
proposal using the Wealth and Assets Survey and find that this
would raise £15 billion in 2020/21, £9.2 billion more than the
current inheritance tax system (Corlett 2018b).
• Replacing council tax and stamp duty with an annual property tax.
This should be proportional to the present day value of homes. Such
a tax would be far more progressive than council tax and would
effectively capture increases in house prices in a way that the
current system does not. Research undertaken by the Resolution
Foundation suggests that an annual charge of 0.7 per cent of
property values would increase revenues by £12.7 billion (Corlett
and Gardiner 2018).
• Increasing corporation tax from 19 to 24 per cent. A rate of 24
percent would be at or below the average of competitor countries.
In the CEJ, we recommended using this revenue – equal to about £9.5
billion per year today and £13.5 billion per year by 2020/2110 – to
reduce employers’ contribution to national insurance. However, this
revenue could be used instead to invest in public services and the
welfare state.
• Creating an alternative minimum corporation tax. This is a tax
rate levied on a company to ensure a minimum corporate tax
liability. It would be done by apportioning a firm’s global profits
to the UK based on its sales or turnover in the UK. Based on
estimates of the ‘corporate tax gap’ (uncollected corporate
taxation), it is likely to raise somewhere between £3.3 billion
(HMRC 2017) and £12 billion per year (TUC 2010).
Together these proposals – even taking the most conservative
revenue raising options – could raise up to £57 billion per year
more by the end of this parliament (£43 billion per year if the
additional corporation tax revenue was used to reduce
9 The revenue raising numbers quoted in this section come from a
variety of sources and are modelled in different ways and for
different time periods. They are therefore indicative of the scale
of revenue raised - rather than a precise summary of the fiscal
impact – by these measures.
10 It is important to note that these figures are simple estimates
of the first-round effects of the tax changes, which don’t take
into account potential behavioural changes. Each percentage point
increase in corporation tax is likely to bring in marginally less
revenue, so the actual increase may be smaller than that modelled
here. Moreover, the changes may lead to changes in investment by
companies of different kinds, which may affect their profitability
and therefore revenues.
34 IPPR | There is an alternative Ending austerity in the UK
employer contributions to national insurance as recommended by the
CEJ). This would be achieved without requiring those on low or
middle incomes to pay higher levels of taxation, and would mean
that no further taxation increases were needed until 2024/25 under
our modelling.
However, this is not to say that those on middle incomes will be
able to escape tax rises indefinitely. By the point of convergence
in 2025, significantly more than this would be needed. With
increases in wealth tax and corporation tax already delivered, we
would be approaching the limits of revenue raising potential on
higher earners. This means that future governments will have to
think seriously about higher rates of labour taxation – not just on
the wealthy but the middle class too – alongside other proposals
such as environmental and sin taxes.
THE ‘INVESTMENT STATE’: THE FIRST PARLIAMENT AND BEYOND Winning
support for the ‘ investment state’ will also require changes in
how public funding is spent. This is because people’s willingness
to pay more tax is determined, not by the absolute level of
taxation, but by the level of taxation relative to the goods and
services the government provides (Ross 2004). However, taxpayers do
not have perfect information about spending and services, nor the
opportunity to fully conduct a cost-benefit analysis. Their
perception of value is instead derived through the aggregate of
micro-level perceptions and experiences of state institutions: ‘Are
we getting what we deserve?’
This is why the breadth and quality of public services and benefits
are so important. If people feel that their tax contribution and
access to services and benefits is unfair in comparison to public
expectation, then increases in taxation will be harder to justify.
Indeed, there is a growing evidence that tax morale increases when
political institutions have higher legitimacy (Torgler 2007).
Likewise, support for public services or welfare is also likely to
be higher if more people – particularly people on both low and
middle incomes – benefit from them (Korpi and Palme 1998). This
suggests that universal services are more likely to command public
support than means tested ones.
These conclusions are demonstrated by the support for more spending
and taxation for the UK’s universal public services compared to
more means tested areas of expenditure (BSAS 2018). Indeed, while
support for more spending on schools and the NHS is high, support
for more spending on benefits has been declining steadily for over
two decades (Hills 2015). Interestingly though, public support for
more universal benefits – and those less associated with the ‘them’
and ‘us’ divide (such as pensions and child benefit) – has been
more resilient (BSAS 2018).
Again, the Nordic countries such as Sweden, Denmark and Finland
provide a key lesson here, with numerous studies suggesting that in
these countries, the popularity of universal services helps to
create both trust and self-generated momentum behind further
investment (Partanen 2016). This suggests that expanding the
coalition of people who benefit from public services and social
security in the short term to more of the middle class in the UK –
and ensuring those services are of a high enough quality to hold
this coalition – will be crucial in gaining support for higher
spending and higher taxes in future parliaments (as well as for
winning support for greater redistribution to those on lower
incomes).
We therefore argue that the revenue raised in the remainder of
parliament, by the measures set out above, should be invested in
measures to make means tested support more generous (to relieve
immediate hardship and reduce insecurity) but also to extend the
principal of universalism to win support among the middle classes
for additional investment in the future. In particular, we argue
that action should be take on all four of the ‘social deficits’ set
out in this paper:
IPPR | There is an alternative Ending austerity in the UK 35
• The ‘care deficit’: Unpaid and informal care is both economically
and socially problematic. It simultaneously holds carers – who are
overwhelmingly women – back in the labour market and creates huge
inequalities in the level and quality of care for children and
older people. Building on previous IPPR recommendations, we argue
that we should move towards universal free childcare. We have
previously estimated that £2.5 billion11 (Lawton et al 2014) would
meet the cost of guaranteeing an affordable childcare place for all
parents of preschool children from the age of one, with a universal
entitlement to free, part-time, year-round care for all those aged
between two and four (though others have estimated a significantly
higher cost for a truly universal childcare system [De Henau
2016]). We also reiterate calls for personal and nur